Ask Annie: Protecting an inheritance - How to keep a home in the family
Sunday 11 November 2007
Q: Like many couples, my wife and I worry about the effects of inheritance tax (IHT) on our estates.
Our house is worth around £1.4m, and we share it with our daughter and her three-year-old child. Our daughter came back to live with us when she split up with her partner and found herself unable to earn enough to support herself and the child in a property of her own.
Our concern is that, when my wife and I are gone, our daughter will, as things stand, have to pay IHT on the value of the house, which would mean she would lose her and her daughter's home. Of course, you might argue, she could sell the house, pay the tax and buy somewhere smaller, but this house has been her home for most of her life.
Can you give us some pointers about how we can leave our family home to our daughter?
A: As you rightly say, this is a question that worries many parents. The Chancellor's recent decision to permit the nil-rate band (the amount you can leave without paying tax) to be transferred between married couples means you now have, in effect, an exemption of £600,000 from IHT. But a £1.4m house would still leave £800,000 attracting a potential IHT liability of £320,000.
Tim Cripps, partner in the trusts and estates department at accountants Moore Stephens, says: "The only certain way of totally avoiding an IHT liability is to give the property to your daughter, which would be deemed a potentially exempt transfer, and then for your daughter to grant you a lease with full repairing covenants."
A "potentially exempt transfer" is a gift that becomes exempt from IHT if the donor survives for seven years after making it. If this does not happen, the gift is included in the donor's estate for tax purposes, with tax charged at a rate that depends on how long the donor has survived.
The lease granted to you by your daughter would have to be on terms equivalent to a lease to a third party, and require the house to be kept in good repair – in other words, with no favours to you as the parents of the owner. Otherwise, if you continue to live there, you could be deemed to have given it away while maintaining an interest in it – known as a "reservation of benefit" – and your estate would be liable to IHT.
Mr Cripps says: "You would have to pay your daughter a market rent to avoid reservation of benefit problems."
Another scheme that could reduce IHT is co-ownership. HM Revenue & Customs has made a special exemption from the reservation of benefit rules for jointly owned and jointly occupied property. Where the donor and recipient occupy the property after a proportion has been transferred, the gift is not counted as a gift with reservation of benefit as long as the donor derives no benefit in connection with the proportion of the property gifted.
You could therefore set up a scheme, with parent one owning 25 per cent, parent two another 25 per cent and your daughter 50 per cent. Like the plan involving giving away the house and renting it back, it requires you to live for another seven years to be effective. And if your daughter were to move out of the house during your lifetime, your gift would once more become liable to tax.
A final option would be to use some of your income to buy an insurance policy, which on the second of your deaths would pay out a sum equivalent to the amount estimated to be due in IHT. However, this might prove to be expensive, depending on such factors as your age and state of health.
If you need help from our consumer champion, write to Annie Shaw at The Independent on Sunday, Independent House, 191 Marsh Wall, London E14 9RS or email email@example.com. We cannot return documents, give personal replies or guarantee to answer letters. We accept no legal responsibility for advice given
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